By Chuck Jaffe -
Yields on bank instruments continue to be wretched.
So some investors are going to great lengths to get better rates. Even if it means looking at offshore certificates of deposit.
The selling point is simple: Put your money in a foreign institution's bank certificate and earn between two and three times what you can get on a similar investment in the United States.
The reality is not that simple, as overseas CDs can run the gamut from legitimate investment to outright scam, which is precisely what makes them a good choice for Stupid Investment of the Week.
Average investors are attracted to offshore CDs right now not only because of the low yields in the United States, but because of headlines about the weak dollar. The story on foreign certificates of deposit isn't ``too good to be true,'' but usually ``just good enough to be true,'' which makes it particularly dangerous.
Many investors in offshore CDs aren't quite sure what they are getting, as there are ``foreign currency CDs'' that make a play on the weak dollar but are much different from ``offshore CDs.''
A foreign-currency CD is invested in a bank in the United States, so the balance is protected by federal deposit insurance. Typically, the bank buys currency contracts with the depositor's money, and fluctuations in that currency determine what the investor gets when the certificate matures.
By comparison, offshore CDs are registered or invested in a bank located overseas and typically are offering certificates directly denominated in that currency. If there is any form of deposit insurance available, it's offered by the government of the foreign country, and good luck being the foreign resident trying to collect if the worst happens.
Web sites promoting offshore CDs talk up a few key selling points.
It starts with the interest rate - typically in the 5 percent to 8.5 percent range for a short-duration contract - and then goes to talking about a tax-free return that offers some asset protection in the event you are sued (a feature that makes it particularly attractive to small-business owners and entrepreneurs).
There may be some talk of the weak dollar too, which can be somewhat laughable when the offshore CD is coming from someplace such as Panama, the Dominican Republic or St. Kitts. When financial experts discuss the dollar's strength or weakness against foreign currencies, they are generally comparing it with the euro or the Japanese yen, not the Panamanian balboa.
The difference can be huge, because the currency in a developing nation is likely to be much more volatile against the dollar.
Many of the offshore CDs are also layered with fees; in some cases, you have to form a foreign corporation, then open an account and pay set-up charges amounting to hundreds of dollars before you ever invest a penny.
The liquidity of the money is also an issue. Once the term of the certificate expires, you will still have to get your money back - and what happens to exchange rates will have a significant impact on whether you ever actually see the promised return. It may also be impossible to get out early; even if you can get your money back before the term expires, the cost can be prohibitive. You also lose a tax deduction, as early withdrawal penalties from U.S. banks are tax deductible.
Says McBride: ``You can't say that all offshore CDs are bad. But the risk factors involved in these things make it so that they are a bad idea for the average investor.''
Source: Boston Herald
